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Regulatory: Why California’s Cap and Trade program impacts every business

The program will affect many sectors of California’s economy

The January 2013 start of California’s first-in-the-nation program to cap greenhouse gas (GHG) emissions and create a market to buy and sell carbon emissions is receiving daily attention from regulators, environmentalists and California’s industrial sector. Stakeholders and industry media are treating this launch of California’s Cap and Trade program as a watershed event for their respective interests. They are right, of course.

Cap and Trade involves broader issues balancing the environmental and industrial sectors’ interests. The program is a multi-billion dollar source of new revenue for the deficit-ridden state. California is also setting national and perhaps international policy with Cap and Trade. The program will have economic ripple effects far beyond its regulatory boundaries. Meanwhile, the courts have not even decided whether the program will go forward and in what form. Consequently, California’s Cap and Trade program should be of interest to us all.

Perhaps the biggest question of immediate interest to Californians is whether Cap and Trade’s potential revenue stream will allow Governor Brown to free up significant funds for other state priorities. The Brown administration is projecting that the program will bring at least $1 billion to the state’s coffers in the 2012-2013 fiscal year and billions more in coming years from auctions of carbon allowance compliance certificates (i.e., emissions credits).

Governor Brown is counting on these funds to help him balance a chronically out-of-balance state budget by freeing up general fund money that would otherwise go toward paying state costs associated with reducing GHGs. Reducing GHGs is a very broad budget category encompassing renewable energy, urban planning, public transportation, modern infrastructure and much more.

The program’s primary regulator, the California Air Resources Board (CARB), does not have legal authority to appropriate funds, so revenues from the program will be part of the annual state budget process controlled by the legislature and the governor.

To put the budget crisis in perspective, California’s general fund spending per $100 of income is lower today than when Governor Reagan left office more than 30 years ago: $5.14 today, $5.89 then.

While Governor Brown sees Cap and Trade as a source of budget balancing revenues, the Democrat-majority legislature sees revenues from the program as a new source of funding for programs dear to it, such as energy efficiency, the green economy and clean technology. The legislature is considering three separate bills that would spend revenues from Cap and Trade, each with a different set of priorities and potentially new funding bureaucracies.

How these revenues are applied or spent is significant to every Californian. They are available to offset energy costs at healthcare facilities or school districts and free up other general fund monies to avoid healthcare program cuts or increases in class sizes. However spent, these revenues will eventually touch many sectors of California’s trillion dollar economy.

The implementation schedule for the Cap and Trade program over the next nine months is very aggressive and includes an additional round of regulatory amendments prior to its kick-off and the first official GHG allowance auction in November. The regulatory amendments are the first of what CARB hopes are many efforts that facilitate program linkage with international partners in establishing a wider price on carbon. The first partner is Québec, Canada.

“Linking with Québec is a significant advance in California’s efforts to fight climate change and steer our economy toward a clean energy future,” said CARB Chairman Mary D. Nichols. “Linking provides more options to California businesses and lays the groundwork for other partners to join with us. This sends a strong message to two national governments that now is the time to support innovation, energy efficiency and the development of clean technologies.”

South Korea and Mexico are also creating carbon trading and have expressed interest in linking to programs like California’s.

As the program moves forward, much needed state revenues counted and new international relationships pursued, Cap and Trade is still an uncertain proposition given the ever present threat of litigation. The Association of Irritated Residences in AIR v. ARB filed the first of two pending lawsuits. The suit challenges CARB’s fundamental authority to implement Cap and Trade, and the plaintiffs are appealing the initial adverse decision.

The second lawsuit, Citizens Climate Lobby v. CARB, was filed earlier this year and focuses directly on the use and validity of offsets (quantifications of non-regulatory GHG emission reductions) in the program. These, or yet-to-be-filed, lawsuits have the potential to de-rail the program.

CARB is proceeding with unwavering direction, and the program is still steadily progressing towards the planned launch at the beginning of next year, even with outstanding legal and implementation questions. More than just environmentalists and the industrial sector should be watching to see if CARB can bring all the pieces together for the program.

How well CARB does is a multi-billion dollar question that will affect every business in California, directly or indirectly. These costs will be discussed in the next article in this series.

Contributing Author

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Thomas McMorrow

Tom McMorrow is a Partner at the law firm Manatt, Phelps & Phillips, LLP, in the Sacramento Government practice group and is Chair...

Additional Contributors: Jon Costantino

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